Blockchain explained and what banks can gain from Distributed Ledger Technologies

By Rajashekara V. Maiya

Ever since Benedikt Kotruljević of Dubrovnik (in Croatia) recorded the first known reference to double-entry bookkeeping in 1458, the General Ledger (GL) has formed the bedrock of financial accounting. For centuries, it remained fundamentally unchanged and true to its original principles, and even when technology changed its form, it did not alter its substance.

But now the venerable general ledger could succumb to digital disruption, thanks to the arrival of Distributed Ledger Technology (DLT), of which Blockchain, Ripple and Ethereum are the best-known examples. Where ERP only worked at the surface to digitize and automate the general ledger, Blockchain is striking at its foundations.

To understand the significance of this event we must briefly revisit the origins of the general ledger. The GL is governed by 3 golden accounting principles – debit the receiver, credit the giver; debit loss and expense, credit profit and gain; debit inflow and credit outflow. These principles are inviolable.

A key feature of the GL is that it only involves the two parties to the transaction, which is recorded in their respective books of accounts. Not so in the case of the Distributed Ledger, where the transaction is visible to all the participants on a particular network, often numbering millions, who validate it through consensus in real-time. Every member of the network has the same copy of the distributed ledger. Because the network certifies the occurrence and genuineness of each and every transaction recorded in the distributed ledger in blocks of transactions that are linked together, there is no longer a need for a central supervisory authority or intermediary of any kind. And since no entries or changes can be made without the network’s approval – after which they must reflect in each and every member’s ledger copy – Blockchain (or any other DLT) transactions are in effect immutable, and consequently, highly secure.

Such a proposition is obviously very attractive to banks, which are taking keen interest and making exploratory investments in Blockchain and other distributed ledger technologies.

Payments are the low hanging fruit for Blockchain implementation. Today, consummating a financial transaction takes time and money, mainly because of the elaborate intermediary chain in the middle. If the transaction involves two countries, then apart from banking fees, commission, and communication charges (paid to Swift, for example), the parties must also bear the cost of currency exchange. Blockchain does away with the intermediary network as described earlier, while also crashing transaction lead time to real-time or nearly that. What’s more, interested parties can track the payment throughout its journey.

Banks can also leverage these benefits in intra-bank transactions between the head office and subsidiaries, for instance. There is a clear case for routing not only financial transactions but also information and documents though Blockchain, so that besides saving transaction costs, banks can also save the logistical expense of ferrying paper documents back and forth.

Banks can also allow their customers, especially multinational corporate customers with whom they have a global relationship, to enjoy the same benefits by digitizing all their transactions and documents on to a distributed ledger. Further, they can allow their multinational corporate clients to make better use of their line of credit in the following manner: instead of opening up individual lines of credit for country operations, where some are overdrawn while others are underutilized, banks can put a client’s overall line of credit on Blockchain, so that it can be used to fund any operation in need in real-time. In return for saving clients overdraft fees, and also for the convenience of this facility, banks could charge a one-time fee. It needs to be mentioned here that currently, the pooling facilities offered by banks do not offer information in real-time, which means the clients don’t know their exact funding status at any given point. Blockchain can change all that by making the information available and the funds usable instantaneously.

Over time, banks can include their corporate clients’ ecosystem of partners and suppliers in the Blockchain network, to give the clients full visibility into the supply chain and also enable them to conduct all transactions, from procurement to payment, cheaply, securely and transparently on Blockchain.

Digital identity is yet another strong use case for Blockchain in banking. Because distributed ledger transactions are anonymous, Central Banks around the world are insisting that their banks conduct detailed investigations into their prospective clients’ credentials before onboarding them and establish their digital identities on the ledger to serve as a permanent record, which the banks can reuse or even share with other banks.

That said, these are just a few of Blockchain’s potential benefits. Once banks start to scratch the surface, who knows what else they might find?

The author is Associate Vice President & Head – Finacle Product Strategy


Published Date: May 10, 2017 11:52 am | Updated Date: May 10, 2017 11:52 am